It was a sight that drove Jeff Bedard crazy nearly every time he pulled up to his office in Johnson City, Tennessee: a half-dozen employees, huddled outside the plant where they manufactured over-the-counter and prescription skin-care products--some of them designed to prevent skin cancer--puffing on cigarettes.

The scene invariably got Bedard, CEO of Crown Laboratories, thinking about his health care bill, which had risen 30 percent a year for the past three years. What's the point of insuring people who are determined to kill themselves, he'd wonder. What's more, Crown's motto is "Creating a healthier world through technology." Every time Bedard saw the cloud of cigarette smoke, he wondered whether the company was living up to the motto.

Last fall, Bedard decided he'd had enough and he rolled out a tough new wellness program designed to force his 61 employees to live healthier lives. Each worker is required to get an annual on-site health assessment. Based on a number of indicators--including blood pressure, weight, physical activity, and cholesterol levels--the individuals are given a "wellness number" of up to 24. Those who improve their scores by at least three points a year, or maintain a score of 20 or more, will get a $500 bonus and extra days off. Smoking is now officially against Crown policy--even during off-hours--and nicotine levels are measured in the health assessment. Smokers have until January 2007 to kick the habit. If they don't, they'll have to start paying their own health insurance premiums.

Wellness programs have long been a part of corporate life. But they've almost always been voluntary. Now, with health care costs taking an ever bigger bite from the bottom line, incentives to participate are starting to look more like penalties for not playing along. In January 2005, Weyco, an employee benefits company in Okemos, Michigan, began firing all employees who smoke--even on their own time. Scotts Miracle-Gro, the gardening supplies maker, based in Marysville, Ohio, followed suit in December. "We're seeing more sticks being used," says David Steurer, membership director of the Wellness Councils of America, an advocacy group.

Eighty-one percent of companies with more than 50 employees have wellness programs, according to the Wellness Councils. Because healthy employees file fewer insurance claims and are less likely to call in sick, wellness programs have a median return on investment of more than three dollars for each dollar spent, according to the U.S. Department of Health and Human Services. But whether you can require employees to participate and then offer cash incentives to them to get healthier remains a matter of dispute. There are few court cases for guidance, and the laws vary from state to state. The privacy issues involved get even more complicated when employers demand reports on the health and fitness of individual workers.

Bedard, 45, knew that many of his staffers suffered from chronic health problems. Crown employees were out sick an average of nine days a year, compared with a national average of 3.8 days. But he initially was reluctant to take steps to get them to become healthier, fearing that employee resentment would outweigh any advantages of doing so. But by 2005, Bedard felt he no longer had a choice. Revenue at the five-year-old company was on track to hit $3.1 million. In the year to come, he planned to hire more than 20 new workers and turn his first-ever profit--and he wasn't about to let rising insurance costs spoil his plans.

Bedard prides himself on offering a good benefits package for workers; he pays 100 percent of their premiums and didn't want to saddle them with the extra insurance costs. Other remedies, like health savings accounts, didn't address his underlying uneasiness about running a health care company full of people with unhealthy habits. After reading about the savings other employers achieved through wellness programs, he decided mandating such a program was the best way to address both concerns.

In June, he called a companywide meeting. "Health care costs are out of control," he said. But he wasn't planning to pass the costs on to his workers. Instead, everyone was going to get healthier. Annual checkups would be mandatory, as would monthly seminars on topics such as maintaining a healthful diet and lowering cholesterol levels. The company would help workers quit smoking, offering counseling and nicotine patches. Those who exercised at least 90 minutes a week would be eligible for extra time off. As Bedard expected, the response was not particularly enthusiastic. Still, all employees underwent their first on-site checkup a few weeks later. The results: More than two-thirds of employees were clinically obese, with body-mass indices of more than 25. Fifty percent almost never exercised. Half a dozen were heavy smokers.

Bedard admits that bottom-line savings will take a few years to show up. But he expects to save substantial sums as workers lose weight and start exercising as a result of the program.

Still, Bedard is taking a risk. Thirty states and Washington, D.C., have laws against firing or demoting smokers. California, Colorado, Tennessee, and North Dakota have laws specifically restricting employers from forbidding any legal activity a worker does off-hours. "Even if there is no statute, employers are risking a lawsuit on a variety of issues," says Don D. Sessions, an employment lawyer in Mission Viejo, California. If you grant incentives for getting healthier, for example, those perks become part of a worker's overall compensation. In effect, you are now paying slender employees more than overweight ones--which could be considered discrimination. Meanwhile, requiring reports on the health and fitness of individual workers sounds like an invasion of privacy and a potential violation of the Health Insurance Portability and Accountability Act, or HIPAA. Crown's program was designed by Wilson Pharmacy, a health care services firm also based in Johnson City. According to the firm's vice president, Suzy Cloyd, the program does not run afoul of HIPAA because while Bedard knows each employee's individual wellness score, the specific conditions that created the scores remain private.

Mandating a wellness program can backfire in other ways. "You can demotivate people and create antagonism between employer and employee," says Frederick Grossman, an industrial psychologist and consultant in Mission Hills, Kansas. For some employees, the program will be just the push they need to quit smoking or give up junk food. But you can't force people to make these kinds of difficult lifestyle changes, Grossman says. And if the same people collect the rewards every time, he says, the program could breed resentment.

None of this, of course, is news to Bedard. One employee recently quit because of the program. "I'm here to work--not to be lectured about my health," the man said. Another smoker is debating whether to stay. But slowly, the employees are getting onboard. When he launched the program in November, only two staffers bothered to turn in the voluntary exercise reports that could earn them extra days off. In February, the number had jumped to 35. That makes Bedard feel good. Helping employees get healthier, he says, is an honorable goal--even if you have to use strong-arm tactics to do it.